Recent speculation suggests there is much disagreement at Government level on how we handle the job of getting the pension system in the UK back into some reasonable shape. Let us be honest, it is never going to be easy; we have a complex system with endless problems.
John Hutton has made it clear the Government are taking the “nothing is in and nothing is out” stance. They see the Turner Report as a milestone for healthy debate. At a recent conference he announced that pensions reform must meet five tests:
1. Does it promote personal responsibility?
There is little evidence to suggest it will. The National Pension Savings Scheme (NPSS) is a low cost scheme with a limited range of funds and no (or limited) ability to cost for advice. Strikingly similar to Stakeholder, which has been a well documented failure.
There are detailed arguments that will no doubt follow around the nature of funds manufactured at the margins mentioned and the risks of using lifestyle as the automatic default choice. But it is worth remembering it is becoming increasingly accepted that asset allocation strategies and fund selection have a huge impact on the overall return achieved with your money. With six to 10 core funds suggested as the available investment options, investment strategies will be basic at best. Although there is a suggestion the client may be able to select from a wider range of funds, the aim is clearly that the majority will select from the core range. Picking funds without guidance or advice is not without risks. Individuals in the target market may have a limited appetite for handling fund selection on their own.
2. Is it fair?
This depends on whom you are trying to be fair to. We understand the need for reform that helps address the problems which people with interrupted paid work records and caring responsibilities face. Clearly in proposing a review of the indexation of the Basic State Pension (BSP) and basing the accrual of BSP on residence this could be achieved. However, when looking at the issue of fairness it is impossible to avoid the running topic of private sector versus civil service pension provision. The report included measures to facilitate later working and flexible retirement. Many will struggle to accept this so long as the inequality of provision between private and civil service structures exists.
3. Is it affordable?
The issue of affordability cuts many ways. You have the issue of affordability from a public expenditure point of view and we will see clever people debate and speculate on the cost of change to us all. But it is also worth mentioning affordability from the individual’s view. The suggestion is there is a need to publicise the benefits of deferring state benefits and, if launched, the new National Pension Savings Scheme. You can employ the best publicist money can buy. However, there is a danger that without direction, guidance or advice many will make their mind up that they can not afford to contribute to the NPSS.
4. Is it simple?
The call from many is for a simplified state system. The proposal is to build on the current two-tier system and recent reforms, accelerating the evolution of S2P to a flat-rate pension by freezing the Upper Earnings Limit for S2P accruals in nominal terms. Index the BSP to average earnings growth over the long-term, ideally starting in 2010 or 2011 as the public expenditure benefit of the rise in women’s SPA begins to flow through. This will make this indexation affordable long-term by raising the SPA gradually, broadly in proportion to the increase in life expectancy. For instance to 66 by 2030, 67 by 2040 and 68 by 2050. It is an improvement but it is certainly not simple.
5. Is it sustainable?
A new National Pension Savings Scheme with a new Payment Pension System is an interesting thought. Scheme, funds and administration all at 0.30% is a challenge with no margin at all for error. Can the Government administer this effectively and who picks up the bill when things go wrong?
No doubt there is a long way to go if Turner’s proposals are going to succeed and this has led some industry commentators to suggest that the Turner Report, particularly the NPSS, signals the end of financial advisers, just as they did when stakeholder pensions and depolarisation were announced. This is simply not going to be the case.
The NPSS is targeted at low to medium earners and is not intended to be a threat to the market that financial advisers traditionally target. The key now is to ensure the structure of the NPSS allows it to integrate with the existing system of private pension provision rather than trying to replace it. For the NPSS to succeed there are three primary objectives that must be achieved.
Firstly, lessons must be learnt from Stakeholder to ensure the NPSS does not encroach into the advisory market. The NPSS should be viewed as a low cost entry vehicle in client circumstances where limited or no advice is appropriate.
Secondly, the advisory market should be free to evolve, innovate and design products without influence from the NPSS.
Thirdly, the new system must be fully portable to enable people to transfer out of the NPSS if their personal circumstances justify it. For example, if a clients’ investment sophistication or circumstances change and they want to maximise their retirement fund by expanding the range of funds they have access to.
It is crucial the NPSS is implemented sensibly in consultation with the industry. At the same time the advisory market must be left to design products that allow for the cost of advice and offer fully flexible investment solutions. If this combined structure can be achieved more people could be encouraged to save via pensions.